Economic meltdown roils commodity markets

October 14, 2008
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by Ron Sterk

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KANSAS CITY — Plunging U.S. and foreign stock markets on Oct. 6 worse than the "Black Monday" in 1987 and increasingly reminiscent of the crash beginning in 1929 pulled commodity prices lower at last week’s outset with many grain and oilseed futures trading down their daily limits. And this plunge was after President George W. Bush had signed into law the $700 billion rescue package.

Since peaking in late June and early July, corn and soybean futures prices were down about 45% as of late last week, with corn the lowest since December 2007 and soybeans since September 2007, using a continuous nearby contract. Corn futures dropped about 18% the prior week. Chicago wheat futures prices were down about 57% from a late February peak and were at 15-month lows. A sell-off in stocks late Thursday and bearish crop production and supply/demand data Friday sent futures prices for many grains and oilseeds down their daily limits again at week’s end.

In more "normal" times, lower stock prices often meant stronger commodity prices, especially futures markets, as money was switched from one investment vehicle to another. But this year’s situation appears much broader and deeper, geographically and financially. Analysts have attributed much of the recent commodity sell-off to liquidation of long positions by large hedge funds.

Commodity investors are worried on many fronts. The first and most immediate concern is credit, which has tightened globally, but not necessarily at the farm level.

"If credit dries up, it will quickly create problems for America’s farmers and ranchers and others who live in rural communities," the American Farm Bureau Federation (A.F.B.F.) board of directors said prior to passage of the rescue plan.

Just after President Bush signed the rescue package into law on Oct. 3 and before the stock market plunged below 10,000 last week, Tim Hammonds, president and chief executive officer of the Food Marketing Institute, said, "This was absolutely necessary to prevent our financial institutions from grinding to a halt. Every business, large and small, in communities all across America were seeing lines of credit dry up and their costs of borrowing begin to spiral out of control."

Ironically, while the big money center banks in New York are struggling, most banks in rural and major agricultural areas, or on "Main Street" to borrow a favorite term from presidential politics, are on solid footing. These banks were not caught up in the housing situation partly because of location but also because a large number of their depositors and borrowers — farmers and small agribusinesses — are coming off two of the most profitable years in their history.

Much of agriculture depends on short-term operating loans or lines of credit. Most pressing at this time would be producers planting winter wheat.

In its Oct. 2 Wheat Letter, the U.S. Wheat Associates said, "Amid all the bad news about the credit crisis, operating loans for U.S. wheat producers fortunately do not appear to be a problem, and winter wheat seeding is moving ahead normally — albeit with higher operating costs."

Terry Francl, senior economist at the A.F.B.F., concurred that lines of credit for farmers generally have not been affected at this point.

"But we have seen credit shifted back to the farmer," Mr. Francl said. He noted for example, some suppliers this fall required farmers to pay 30% of their fertilizer costs "up front" and pay the remainder at the first of the year, in effect shifting the burden of credit to the farmer and off the supplier.

The Farm Credit System, which provides about 30% of all U.S. agricultural credit, recently said its credit quality was healthy and it had a relatively low level of nonperforming loans that were "consistent with the continued strength of the U.S. agricultural economy."

"This action was taken to address recently sustained losses from deterioration of certain investments," said Leland Strom, chairman of the Federal Credit Administration (F.C.A.). "These investment losses were related to the broader deterioration in the financial marketplace."

The Farm Credit System bought $60 million of the Farmer Mac issue.

At the same time, commodity markets and food processing companies still face a bushel of real concerns. Mr. Francl indicated tight credit was more of an issue for companies selling farm inputs and for food processors than for farmers.

Another major concern is demand, which will take longer to realize.

"Although the current credit crisis is not yet curbing credit availability for most farmers, it has other serious implications for U.S. agriculture," said Alan Tracy, U.S. Wheat Associates. "To the extent that our economic problems spread globally and endure, world growth will decline and agricultural market growth will slow, hurting our prices for years to come.

"Exporters may face higher credit risks. A weaker U.S. dollar by itself would tend to raise our farm prices but also the price of inputs like fertilizer. If crude oil demand and prices continue to slide, commodity prices often move in the same direction."

Crude oil prices dipped below $90 a barrel early last week, down about 40% from the July 11 peak over $147.

"The net impact to us of such broad economic changes remains to be seen, but the agricultural community is not going to get a free pass from this crisis," Mr. Tracy said.

Although crops like corn, soybeans and spring wheat won’t be planted for several months, the market also must consider the impact of sharply lower prices on farmers’ planting intentions since prices have dropped below cost of production for some commodities. While lower commodity prices may be welcomed by food processors after recent record high levels, such sharp declines so quickly may ultimately tighten supplies.

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